ECON 1033: MANAGERIAL ECONOMICS HANDOUT NO.

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Handout No. 01: Introduction to Managerial Economics

Introductory Anecdote

We live in a world with scarce resources, which is why economics is a practical science. We cannot have everything
we want. Further, others want the same scarce resources we want. Organizations that provide goods and services
will survive and thrive only if they meet the needs for which they were created and do so effectively. Since the
organization’s customers also have limited resources, they will not allocate their scarce resources to acquire
something of little or no value. And even if the goods or services are of value, when another organization can meet
the same need with a more favorable exchange for the customer, the customer will shift to the other supplier. Put
another way, the organization must create value for their customers, which is the difference between what they
acquire and what they produce.

Economics

Economics can be defined in many ways. Economics can be viewed as:

- the study of the production, distribution, and consumption of goods and services, or
- the study of choice related to the allocation of scarce resources.
The former definition focuses on the scope of economics, while the latter establishes the core of what economics
stand for—create and maximize value amidst the limitations in resources.

Economics can be on a MACRO SCALE (macroeconomics), focusing on the economy of a larger locale, or on a
MICRO SCALE (microeconomics), dealing with individual entities.

Why are managers involved?

Management is a delicate series of steps aimed at one thing: realization of the organization’s VMGO (Vision,
Mission, Goals and Objectives). Simply put, management ensures that the car runs smoothly and is pointed at the
right path, and no other persons take the steering wheel than the managers.

Managerial economics is a sub-discipline of economics that deal with how managers view economics from their
lenses.

Relevant relationships: Understanding REVENUE, COST, and PROFIT

1. The total monetary value of the goods or services sold is called revenue.
2. The collective expenses incurred to generate revenue over a period of time, expressed in terms of monetary
value, are the cost. Costs may be classified into their form of behavior:
- Some cost elements are related to the volume of sales; that is, as sales go up, the expenses go up. These
costs are called variable costs.
- Other costs are largely invariant to the volume of sales, at least within a certain range of sales volumes.
These costs are called fixed costs.
3. The difference between the revenue and cost (found by subtracting the cost from the revenue) is called the
profit. When costs exceed revenue, there is a negative profit, or loss.

Revenue Function: R = P(x) ; where P = Price, and x = Quantity

Cost Function: C = a + b(x) ; where a = fixed costs, b = variable cost per unit, and x = quantity
Profit Function: N=R–C

We need to understand that there is a difference between the usual profit that we are familiar with
(accounting/financial profit) to the profit we know in economics (economic profit).

If a business properly measures costs from an economic perspective, ignoring sunk costs and including opportunity
costs, you can conclude that a venture is worth pursuing if it results in an economic profit of zero or better.
However, this is generally not a valid principle if you measure performance in terms of accounting profit. Most
stockholders in a corporation would not be satisfied if the corporation only managed a zero-accounting profit
because this means there is no residual from the business to reward them with either dividends or increased stock

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 ECON 1033: MANAGERIAL ECONOMICS HANDOUT NO. 01

value. From an economic cost perspective, stockholder capital is an asset that can be redeployed, and thus it has
an opportunity cost—namely, what the investor could earn elsewhere with their share of the corporation in a
different investment of equivalent risk.

One distinguishing factor is the inclusion of OPPORTUNITY COSTS and RELEVANT COSTS in economics.

Breakeven Analysis

The volume level that separates the range with economic loss from the range with economic profit is called the
breakeven point (BEP).

Formula for BEP: BEP = Fixed Costs / (Sales price per unit – Variable Costs per unit)
The figure (sales price – variable costs per unit is also called the contribution margin)

Impact of Price Changes

Price is considered to be the prime motivator of consumption. To examine the impact of price and determine a
best price, we need to estimate the relationship between the price charged and the maximum unit quantity that
could be sold. This relationship is called a demand curve. Demand curves generally follow a pattern called the law
of demand, whereby increases in price result in decreases in the maximum quantity that can be sold.

Demand and Supply Analysis

The law of demand holds that demand for a product change inversely to its price, all else being equal. In other
words, the higher the price, the lower the level of demand. Because buyers have finite resources, their spending
on a given product or commodity is limited as well, so higher prices reduce the quantity demanded. Conversely,
demand rises as the product becomes more affordable. As a result, demand curves slope downward from left to
right, as in the chart below. Changes in demand levels as a function of a product's price relative to buyers' income
or resources are known as the income effect.

The law of supply relates price changes for a product with the quantity supplied. In contrast with the law of
demand the law of supply relationship is direct, not inverse. The higher the price, the higher the quantity supplied.
Lower prices mean reduced supply, all else held equal. Higher prices give suppliers an incentive to supply more of
the product or commodity, assuming their costs aren't increasing as much. Lower prices result in a cost squeeze
that curbs supply. As a result, supply slopes are upwardly sloping from left to right.

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 ECON 1033: MANAGERIAL ECONOMICS HANDOUT NO. 01

Exercises:

1. Jeem Company produces commercial cellphones for sale in India. One phone sells for P 24,000. In 2023,
Jeem sold 200 units of the phones for the month of December. Jeem incurs a total of 600,000 in fixed costs
every month, and incurs 15,000 per phone manufactured.
a. How much is Jeem’s revenue for December 2023?
b. How much was the total costs incurred by Jeem for December 2023?
c. How much is Jeem’s profit for 2023?
d. If Jeem were to be conservative, how many phones should he sell to have zero profit?

2. New Iberia Corporation makes and sells the "Tabasco Maiden”, a wall hanging depicting a magical
pepper plant. The Tabasco Maidens are sold at specialty shops for $50 each. The capacity of the plant is
15,000 Maidens per year. Costs to manufacture and sell each wall hanging are as follows:
Direct material $ 5.00
Direct labor 6.00
Variable overhead 8.00
Fixed overhead 10.00
Variable selling expenses 2.50
New Iberia Corporation has been approached by an Texas company about purchasing 2,500 Tabasco
Maidens. The company is currently making and selling 15,000 per year. The Texas company wants to
attach its own Lone Star label, which increases costs by $.50 each. No selling expenses would be incurred
on this order. The corporation believes that it must make an additional $1 on each Tabasco Maiden to
accept this offer.
What is the opportunity cost per unit of selling to the Texas company?
What is the minimum selling price that should be set?

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